Small Business Taxes & ManagementTM--Copyright 2013, A/N Group, Inc.
For your benefit we've included a brief definition of selected business, tax, financial and real estate terms. Keep in mind that the definitions are abbreviated and, as with all terms, accepted usage can vary by industry, area of the country, etc.
Abatement. The removal of a nuisance or a reduction or a decrease such as a tax abatement.
Absorption. In real estate, the amount of additional space that is leased during a year (or other time period). That can be further defined. Gross Absorption is the total amount of spaced leased during the time period. Net Absorption is the net change in the amount of space leased in a given market. Net Absorption can be positive, more space is being leased than is coming onto the market, or negative, more space is coming onto the market than is being leased. Absorption Rate is the number of square feet of vacant rental space divided by the historical number of square feet leased per year.
Abstract of Title. A summary of all the conveyances, grants, transfers, judicial proceedings, etc. that have affected the title to a parcel of real property. An abstract only shows the items of public record; it does not show nonpublic actions such as encroachments.
Accelerated Depreciation. A method of calculating depreciation where deductions are higher in the early years of the asset's life. Contrasted with straight-line depreciation where deductions are equal for each year of the life of the asset.
Acceleration Clause. A clause (often in mortgages or other loans) where some action will occur ahead of schedule as a result of some other action. For example, an acceleration clause in a loan may mean that the full amount is due immediately if the debtor misses two monthly payments in a row.
Accidental means death benefit. An option in an insurance policy where the payment is a multiple (frequently double) the policy face amount in the case of death by accidental means. Death must usually result from the accidental means within a certain time period (usually 90 days).
Accountant's Opinion. If a independent certified public accountant is requested to audit a company's books, he will issue a opinion as to the condition of the financial statements. There are several degrees of opinion from clean to adverse. A clean opinion doesn't mean that every number is correct, only that the financials fairly represent the position of the company. An adverse opinion means the financials don't represent the position of the company. A disclaimer means the auditor can't (for any number of reasons) express an opinion on the statements.
Accounting Controls. Methods and procedures intended to safeguard assets, authorize transactions, and ensure the accuracy of financial records.
Accounting Equation. Simply stated, assets are equal to liabilities plus owners' equity.
Accounting Method. Any number of approaches for calculating the income of an entity. Usually applied to the general means of recognizing income and expenses, e.g., cash or accrual. But it can also apply to method of keeping inventories, etc.
Accounting Procedure. Similar to accounting method, but applied to more routine issues. For example, the method of computing depreciation, handling small capital expenditures.
Accounting Rate of Return. A method of computing the profitability where the total cash inflow over the life of the project is reduced by expenses. This amount is divided by the estimated life of the project to arrive at an annual return. That's divided by the investment's cost. The result is an average rate of return. See Discounted Cash Flow.
Accounts Payable. A liability arising when a vendor provides goods or services that are not immediately paid for and where the liability is not formalized in writing but backed by the reputation and credit worthiness of the debtor. When a business using the accrual basis of accounting purchases goods or services the company reports an expense and an account payable. When payment is made the account payable is reduced.
Accounts Receivable. For accrual basis businesses, transactions not paid in cash create an account receivable, an unsecured promise to pay in the future. The accounting entry is a debit to accounts receivable and a credit to sales. On payment, the account receivable is credited and cash is debited.
Accounts Receivable Financing. Financing where the company's accounts receivable are used as collateral. This type of financing is usually short-term in nature.
Accounts Receivable Turnover. Ratio obtained by dividing total credit sales by accounts receivable. The result indicates how many times the receivables have been collected during the period covered by the sales. It's a measure of how well the company is collecting it's accounts receivable.
Accredited Investor.--A person (or institution) that has the assets or income level set by the SEC to invest in unregistered securities including nonpublic equity investments, hedge funds, and privately held corporations and similar entities. To meet the qualifications an individual investor must have a net worth of at least $1 million or current annual income of $200,000 in each of the most recent two years. For a married investor, the net worth requirement is the same, but the income level is $300,000. In both cases the investor must have a reasonable expectation of the same income level in the current year. For a business, the requirement is that all the equity owners of the business be accredited investors. Trust funds, pension funds, etc. are subject to different requirements.
Accrual Accounting. Under this method of accounting, income is recognized when earned, whether or not collected, and expenses are recognized when events have occurred that determine that a liability exists and the amount of the liability can be ascertained with reasonable accuracy. For example, at December 31 you ship a customer 100 widgets. You have to record the income in that year, even though you won't get paid until the following year. If you were buying the widgets, you could accrue the expense in the tax year you ordered them. There are some special rules for tax purposes and there can be a significant divergence between recognition of income and expenses for tax and financial accounting purposes.
Accrue. To record an item in the accounting books when using the accrual method of accounting. For example, you accrue income when the customer signs a contract, even though you won't receive any cash at that time. When you accrue an item of income or expense can depend on a number of factors including the entity's procedures. IRS requirements here frequently diverge from accounting rules.
Accrued Expense. An expense that has been incurred, but not yet paid in cash. Similar to accounts payable, but usually associated with nontrade vendors. For example, an electric bill.
Accrued Interest. Interest that has been earned, but not yet collected, or interest that is due, but not yet paid. (See also accumulated interest.)
Accrued Future Service Benefit. The portion of a participant's pension retirement benefit that relates to the participant's period of service credited after the effective date of the plan but before a specified current date.
Accrued Revenue. Income that has been earned (by the sale of goods or performance of services) but where payment has not been received in cash. Similar to accounts receivable.
Accumulated Depreciation. The total depreciation taken on an asset since it was acquired.
Accumulated Dividends. With respect to life insurance, dividends not distributed by the insurance company but left to accumulate with interest.
Accumulated Interest. Interest not paid currently that is added to the balance owing.
Acid-Test Ratio. Also called the quick ratio, it's equal to the sum of cash, short-term investments and net current receivables divided by current liabilities. It's a measure of whether or not the business could pay all its current liabilities if they came due immediately.
Act of God. A catastrophic event that could not have been foreseen nor avoided or prevented. Most contracts have a provision that gives the parties an excuse not to perform should an act of God occur.
Active Market. Market characterized by a large volume of trading and spreads between bid and asked prices that are small.
Active Participation. Involvement in a rental real estate activity making management decisions. Requires no specific number of hours.
Activity. For the passive activity rules, it's the integral economic unit for measuring a taxpayer's level of participation in a trade or business. One location can have more than one business activity. For example, you might have an S corporation that sells computers at retail and does typesetting working out of the same location. The two may be separate activities. On the other hand, two or more related businesses can also be combined into one activity.
Actual Damages. Losses that can be directly measured and incurred by a party as a result of a breach or tortious act by another party. As opposed to punitive damages.
Addendum. Something added to a document, such as an addition to a contract. Additional Paid-In Capital. Equity contributions to a corporation in excess of the amount of capital stock. See Owner's Equity, below.
Add-On Interest. Interest charged on the original principal of a loan, despite a reduction in principal by repayments. Also called Add-On Rate.
Ademption. The sale or other disposal of a property bequeathed in will so that the bequest is no longer effective.
Adequate Consideration. An amount equal to the fair market value of the asset or service provided. Adequate consideration may be determined by the price quoted on an exchange, an appraisal, comparable sales, etc. For tax purposes, adequate consideration is important in dealings between two parties. If a transaction is made for less than adequate consideration, the difference between the market price and the amount actually transferred may be taxable as income, or it may be a gift or there may be other tax consequences.
Adjusted Basis. Used for determining depreciation and gain or loss on the disposition of an asset. Your adjusted basis in an asset is your beginning basis (see Basis, below), decreased by depreciation, depletion or any Sec. 179 expense taken or increased by capital additions. For example, you purchase a machine for $10,000 (your basis) and take a Sec. 179 expense deduction of $1,000 and depreciation of $2,000 in the first year. At the end of the year your adjusted basis is $7,000. Note. Even professionals often say basis when they really mean adjusted basis.
Adjusted Gross Income. Also known as AGI, it's your individual income before personal exemptions or standard or itemized deductions. It's the total of wages, interest, dividends, capital gains (or up to $3,000 in losses), profit or loss from real estate or pass-through entities (e.g., S corporation), pension income and certain other items less contributions to an IRA or Keogh plan, one-half of any self- employment income, and health insurance for self-employed individuals, and certain other deductions.
Adjusted Trial Balance. A list of all the ledger accounts with their adjustments and the adjusted balances.
Adjusting Entry. An entry made at the end of the period to assign expenses to the period for which they were incurred and revenue to the period in which it was earned. They are also used to correct entries that could not be accurately made before the end of the year.
Administrative Dissolution. The dissolution of a corporation by the Secretary of State or similar state authority as a result of the corporation's failure to file corporate tax returns, file an annual report, maintain a registered agent, etc.
Administrative Expense. Sometimes part of general expense, it's an expense that isn't directly associated with selling, manufacturing, distributing, etc. but part of overall management such as accounting, general management, etc.
Administrative Services Only. Where one party provides only administrative or clerical services to an employee benefit plan. (Typically the employer is the administrator.) Another party acts as the trustee.
Administrator. A person appointed by a court to settle the estate of a person who has died without a will (intestate). The term is administratrix if the person is a female. An administrator serves the same function as an executor.
Ad Valorem (tax). Ad valorem means according to value. An ad valorem tax is one based on the value of the property subject to taxation. Advances. Funds made available to another party. In the case of a loan, it's the disbursement of funds under a note. In tax parlance it often means something between a formalized loan and equity. For example, a shareholder puts money into a corporation with the intention of being paid back shortly.
Adverse Opinion. Instead of an unqualified opinion, it's an opinion by a CPA that the financial statements do not represent fairly the results of the operations of the company and/or are not in conformity with generally accepted accounting principles (GAAP).
Affidavit. A written statement that is sworn to before an officer of the court who is authorized to administer an oath.
Affirmative Covenant. A covenant on a bond, loan, or mortgage that requires the debtor to perform certain actions.
After-Acquired Clause. A clause in a mortgage or similar loan document that provides that any mortgageable property acquired after the mortgage is signed will be considered additional security for the loan.
After-Tax Real Rate of Return. A rate of return on an investment on an after-tax basis and adjusted for inflation.
Agency. A relationship between a principal and an agent who acts on behalf of the principal in a transaction with a third party.
Agent. A person or entity authorized to act on behalf of another party. While a person can act on his own, a corporation can only act through its agents.
Aggregation. The combination of several business operations into a larger unit. Primarily used to combine passive trade or business undertakings into one or more activities in order to determine whether a taxpayer is a material participant.
Aging of Accounts Receivable. A way to estimate bad debts by analyzing individual accounts receivable according to the length of time they have been outstanding. For example, outstanding accounts may be split into those 30 days or less outstanding, 60 days or less outstanding, etc. The analysis includes arriving at the balance for all the accounts in a group. (Also known as Aging Schedule. The result is referred to as Aged Accounts Receivable.)
Alienation. When used in connection with real property, the voluntary transferance of ownership or title from one person to another. Alienation can be Involuntary if the property is transferred without the owner's consent such as in an a foreclosure.
All-or-None Bid. A bid for a number of different items in which the bidder will not accept a partial award, but only an award for all the items, services, etc. included in the bid. In stock trading, the requirement that none of the order is to be executed unless the entire order can be satisfied at the indicated price.
All-Risk. An insurance policy covering real or personal property against any loss except those specifically excluded.
Allocation Base. An approach for assigning a given cost to two or more departments of a business.
Allowance for Doubtful Accounts. An offset, or contra account, to accounts receivable to reflect the estimated collection losses on outstanding accounts receivable. The allowance reduces revenue. Such an allowance is generally not allowed for tax purposes. Also known as an allowance for bad debts and allowance for uncollectible accounts.
Allowance Method. A method of recording collection losses based on estimates before the actual determination that the business will be unable to collect such losses. For example, at the end of the year a company will make an estimate of the uncollectible accounts receivable at that point in time. The actual dollar amount of the accounts receivable that will be uncollected may not be known for certainty for many months or even years.
American-style Option. An option exercisable at any time between the purchase and expiration date.
Amortization. This is similar to straight-line depreciation, allowing a business or individual to write off an expenditure over a number of years. Amortization generally applies to intangible assets. For example, you purchase a business consisting of a machine with a fair market value of $10,000 and goodwill of $15,000. You can't expense (write off) the cost in the year acquired, but you can depreciate the machine using any of several methods, including one that provides greater deductions in the early years. The goodwill can only be amortized over 15 years using a straight-line method, or $1,000 per year.
Annual Meeting. A meeting of the shareholders held each year to elect directors of the corporation, present the annual report, and conduct other business including items which requires shareholder approval. (Note. Even closely held small corporations may be required to hold an annual meeting under state law. Moreover, should the corporation be audited by the IRS, proof of an annual meeting may be critical in maintaining the integrity of the corporation.
Annual Percentage Rate (APR). The effective interest rate required to be disclosed under the Truth in Lending Act.
Annual Renewable Term Insurance. Term insurance that does not require a new application or physical each year. Premiums on the policy are not fixed. A variation is 5- or 10-year renewable term insurance.
Annuity. The dictionary definition is a contract issued by an insurance company that pays an annuitant an amount periodically for a certain time for the remainder of his life. Common usage has expanded that definition to the point where you must dig deeper to understand the meaning. Variations include a deferred annuity where you make payments into a fund over a period of years, known as a deferred annuity, (where tax on the fund's income is deferred), an immediate annuity (the original definition) or many other plans where a series of payments, either into or out of the fund, are involved.
Appraisal Rights. The rights of shareholders in a merger or acquisition by another party to demand payment at a fair price determined by an independent appraisal. Often raised by minority shareholders in close corporations.
Appropriation of Retained Earnings. Restriction of retained earnings that is recorded by a formal journal entry. The restriction may be made voluntarily by the board of directors to show the earnings are being accumulated for a particular purpose or the restriction may be the result of a covenant in a loan agreement.
Articles of Incorporation. Document to be filed in most states with the secretary of state or similar authority of a state by the founders of the corporation specifying such items as the name, location, nature of the business, capital investment, etc. The document is also known as a Certificate of Incorporation. The corporation only comes into existence when the filing is approved by the state.
Articles of Organization. Similar to Articles of Incorporation, but the document filed with the secretary of state or similar authority of a state by the founders of an limited liability company (LLC). It is also known as Articles of Formation.
Assessments. The right to secure additional payments from partners or co-venturers in a project.
Asset Activity Ratios. Rations used to determine how effectively the business is managing the assets. Examples include inventory turnover and receivables turnover.
Asset-backed Security. A security collateralized by assets such as receivables, inventory, installment contracts, loans (in the case of a lender), etc.
Asset-based Financing. Loans or other financings where the creditors and any equity investors base their lending/investment decisions on the cash flow from the project or asset.
Assignment. A transfer of your rights to another party. For example, in the case of an insurance policy it's the partial or total transfer of the policyowner's rights to another party. If you're selling a piece of equipment, you may be able to assign the warranty to the buyer. Some contracts expressly prohibit assignment.
Assumption. An agreement where the purchaser agrees to make the payments on an existing mortgage on the property. The original borrower remains liable unless he is specifically released.
At-risk plan. Under the Pension Protection Act of 2006, a plan is considered to be at risk of default on its obligations if it fails to meet at least one of two tests. Under the first test, a plan is deemed to be at risk if it is less than 70% funded under the "worst case scenario" assumptions that (1) the sponsor is not permitted to use credit balances to reduce its cash contributions and (2) employees will retire at the earliest date they are eligible and will choose the form of benefit that is most expensive to the plan. If a plan does not pass this test, it will be deemed at risk of default unless it is at least 80% funded under standard actuarial assumptions.
Authorized Shares. The maximum number of shares of stock a corporation may issue according to its articles of incorporation. If additional shares are to be issued either to be sold or because of a stock split or dividend, the corporation must file an amendment with the state.
Average Cost Method. Inventory costing method based on the average cost of inventory during the period. Average cost is determined by dividing the cost of goods in inventory by the number of units of the same type in inventory at any point in time.
Bad Debt Expense. Generally, the cost of uncollectible accounts receivable which occurs when customers to whom a business has extended credit fail to pay. It can also refer to any debt owed you which is uncollectible.
Balance Sheet. Listing of the assets, liabilities and owner's equity at a specific point in time.
Balloon Payment. The final installment on a loan which is greater than the prior payments and pays any remaining amount outstanding under the loan. For example, a loan calls for equal monthly payments of $500, where most of the payment is for interest. At the end of the loan a balloon payment of $100,000 is due.
Banker's Acceptance. A time draft (note) drawn on and accepted by a bank. This instrument is usually used for financing import-export transactions and generally financing international trade. Payment of the note is guaranteed by the bank.
Banker's Rule. The use of a 360-day year (instead of 365) for prorations. (The use stems from pre-computer days when it was used to simplify computation.)
Base. Also known as a Stop. In real estate leases tenants are often responsible for operating expenses of the building over a certain dollar amount, the base or stop. The base may be expressed in dollars per square foot, total dollars, or as a base year (in which case the base is the expense in the base year).
Example--Expenses for a building are $9 per square foot in 1997. Madison Inc. has a base of $6. For 1997 Madison must pay $3 per square foot in Escalation. (Note, the computations can be much more involved.) For a net lease the base is zero.
Basis. Used in determining depreciation or gain or loss on the sale of property. In the simplest situation, your basis in property you purchase is the cost. For example, you pay $1,000 for a machine--that's your basis. How you acquire the property determines your basis. For example, if you inherited the machine, your basis would be the fair market value at the decedent's death. In a simple tradein, your basis is equal to your adjusted basis (see above) in the equipment traded in plus any cash paid. If you contributed the property to a corporation, the corporation's basis would be the basis of the property in your hands. Your basis in the stock in an S corporation is your cost plus profits taxed to you less losses passed through and distributions. There are a number of other ways of arriving at basis. Please see Adjusted Basis, above.
Basis Point. A way of quoting the yield on a bond, note, or other debt instrument. One basis point is equal to 0.01%. Thus, a 50 basis point yield increase in a bond would be equal to 0.5%.
Batch Processing. Entering transactions in a group rather than as they occur.
Bearer Bond. While new issues are rare because of a change in the tax law, the principal and interest on the bond is payable to whoever has possession. On the other hand, the ownership of a bond in registered form is recorded with a bank, the issuer, etc.
Bearer Instrument. A note, instrument, or draft, payable to someone other than a designated payee, i.e., the bearer or to cash.
Beneficiary. A person entitled to the benefits of a trust, will, insurance policy, pension plan, etc. For example, if you name your daughter as the sole beneficiary of a life insurance policy, only she is entitle to the proceeds.
Bid Bond. An agreement in which a third party agrees to be liable in the event the bidder fails to sign the contract as bid (if his bid is accepted). A bid deposit is similar, but the bidder must deposit cash or a certified check.
Blanket Mortgage. A single mortgage that covers more than one property.
Blanket Order. A purchasing arrangement where the purchaser contracts with a vendor to provide his requirements for an item or service on an as-required basis.
Blanket Position Bond. A fidelity bond where each employee is covered up to the bond penalty. The maximum liability is equal to the bond penalty times the number of employees.
Blended Rate. The interest rate on a new loan that is higher than the existing rate but lower than the market rate.
Blind Pool. A partnership or syndication where the investments to be purchased are not specified at the time the investments are sold.
Blue Sky Laws. State laws that govern the issuance and sale of securities (stocks, bonds, etc.) to residents of the state and require the registration of the securities with the state prior to sale. The rules are designed to protect investors from fraud. While a new stock issue may be exempt from federal regulation, it may not be exempt from state rules.
Bond Discount. The excess of the value of a bond at maturity (the par value) over the issue price of a bond or the purchase price. The difference between the value at maturity and the issue price is often called original issue discount. For example, the par value of a bond is $1,000; the bond is issued at $990. The bond has $10 of original issue discount. Another bond has a par value of $1,000; you purchase it in the open market at $900. The bond has $100 of discount.
Bond Premium. The excess of the bond's price over the maturity (par) value. For example, you purchase a bond for $1050; the maturity value is $1,000. The bond has a premium of $50.
Bond Sinking Fund. Amounts accumulated and segregated for the purpose of redeeming or retiring bonds. Can also apply to preferred stock.
Book Value of an Asset. The asset's cost less accumulated depreciation.
Book Value of Stock. The book value of the assets of a company less the liabilities. Can be translated into book value per share by dividing by the number of shares outstanding.
Boot. A tax term that means cash or unlike property received in an exchange. For example, you trade investment real estate worth $500,000 for another property worth only $300,000. In addition to the deed on the new property you receive $200,000 in cash (or notes). The $200,000 is boot.
Break-Even Point. The dollar amount or unit amount of sales where total revenue equals total expenses.
Breakpoint. See Overage Rent.
Bridge Loan. See Interim Financing.
Broad Form Policies. With reference to insurance policies, policies that provide broad protection with very few limitations.
Broad Form Storekeepers Policy. An insurance policy for a retail store with four or fewer employees that provides both fidelity and crime coverage.
Builder's Bonds. Mortgage-backed securities issued by builders on mortgages accumulated from the sales of houses.
Bullet Loan. Generally, a loan where no principal repayments are made during the loan. Only interest is paid, leaving the total amount borrowed as a balloon payment at maturity.
Business Interruption Insurance. A policy that pays a stipulated amount when the business cannot operate because of some insured peril. For example, a policy will pay a certain percentage of the business's earnings lost because of a fire.
Businessowner's Program. An insurance policy designed for small offices or stores, covering the building and contents for full replacement cost as well as liability insurance.
Buy-Down. A loan in which someone other than the borrower puts up money to reduce the interest rate or borrower's monthly payments. Frequently done by builders in poor markets. It makes the house more affordable. The buy-down usually expires within a few years.
Buy-Sell Agreement. An agreement between owners (shareholders or partners) of a business providing that surviving co-owners of the business will purchase the shares of a co-owner who dies. The agreement provides a formula for valuing the business on the date of death of the co-owner. Bylaws. The rules governing the operation of an organization. In the case of a corporation, the bylaws are drawn up at the time, or shortly after incorporation. (Most stationery stores have standard forms which can be modified.)
Byproduct. Output of a production process with relatively little sales value when compared to the main product.
Callable Bond. A bond that can be redeemed by the issuer before the stated maturity date. Usually, the bond cannot be redeemed before a certain time, say 5 years. And often bonds are only callable at certain times. If a call date is missed, the bond may not be callable until the next call date. The call privilege is to enable the issuer to refund the bonds at a lower interest rate should that occur during the term. The yield and value of a bond can be affected by any call privilege. Sometimes known as a call feature.
Call Option. 1. The right to buy 100 shares of a stock (or stock index, etc.) at set price. Usually, the option holder has the right, but not the obligation to purchase the property. The option expires at a set time. For example, the current price of Madison Inc. is $50. For $5 per share you can purchase a option that allows you to buy Madison stock at $52 at anytime within the next 60 days. Traded options expire at preset times. 2. The right to prepay a mortgage.
Call Premium. In the case of straight or convertible bonds or preferred stock it's the amount in excess of the par value of the security the issuer may have to pay for the privilege of redeeming the security before maturity. For example, if the par value is $1,000, the issuer may have to pay $1,100 to redeem the bond. The call premium can vary with the timing of the call feature. For example, the call premium may be $100 on a bond that's callable 5 years from issuance. The premium may be only $50 if the bond is callable 10 years after issuance. The term call premium can also refer to the purchase price of a call option.
Call Price. The price at which a bond, preferred stock, etc. that has a call provision can be redeemed.
Call Provision. A clause in a bond's indenture allowing the issuer to redeem the bond before maturity. The provision includes the call price and usually call protection.
Call Protection. The length of time during which a bond, preferred stock, etc. cannot be redeemed by the issuer.
Call Risk. The risk that a bond will be called before maturity. The risk increases when bond rates fall, particularly when the bond carries a high interest rate. The bigger the spread between current rates and the bond's rate, the greater the risk the bond will be called (when any call protection expires). The risk is that the investor won't be able to replace the yield with another investment of similiar quality. Cancellable Contract. A contract that may be cancelled at any time without penalty. Usually requires a certain amount of days' notice by the party cancelling before the contract is terminated.
Capital. Sometimes used as a synonym for the owner's equity in a business.
Capital Asset. For financial purposes (the tax definition is slightly different) it's an asset intended to be held for a long-term. Examples include machinery, furniture, real property, that is used in a business. It is not an asset held for sale by the business.
Capital Asset Pricing Model. A sophisticated technique for pricing assets based on the risk inherent in holding the asset, the return generated by the asset and a risk-free rate of return. Capital Budgeting. A formal plan for making investments in plant, equipment, other fixed assets, advertising projects, etc. Items included in the capital budget have lives in excess of one year and often require long-range planning.
Capital Expenditure. The purchase of or outlay for an asset with a life of more than a year, or one that increases the capacity or efficiency of an asset or extends it's useful life. Generally, such expenditures cannot be deducted currently for tax purposes (or expensed for financial accounting purposes. Instead, they must be depreciated or amortized over their useful life.
Capital Gain (or loss). A category of gain or loss under the tax law resulting from the sale or other disposition of specified property such as stock or bond investments, real estate, etc. It does not include property used in a trade or business. However, special rules apply in such situations that can result in similar treatment for business property.
Capitalization Rate. The rate of interest used to discount the future income from a property to arrive at a present value.
Capital Structure. The mix of long-term debt and equity in an entity's financial basis. Equity can include stock, preferred stock, retained earnings, and the equivalents for partnerships, sole proprietorships, etc.
Capital Turnover. A company's annual sales divided by the average stockholder equity (i.e., net worth). It's a measure of how efficiently the company uses its equity; the greater the ratio, the less capital (more efficient) the company needs to generate a certain level of sales. Also referred to as equity turnover.
Captive Finance Company. An entity, usually wholly owned by parent, to finance sales to customers.
Cash Balance Plan. A cash balance plan is an employer-sponsored retirement plan that has some characteristics of both defined benefit and defined contribution (DC) plans. The employer credits each employee with a specific percentage of pay each year and applies interest to these amounts at a rate of interest that the employer chooses. The benefit is therefore defined as an "account balance," as in a DC plan. A cash balance plan differs from a DC plan, however, in that the employer retains control of the funds held by the plan and chooses how to invest these funds. The account balance in a cash balance plan is merely an accounting of the employee's accrued benefit under the plan. It is not an individual account owned by the employee. Because the employee is required to receive a benefit that is no less than the amount of pay credits and interest credits that have been applied to his or her "account," cash balance plans are legally defined benefit plans and are insured by the Pension Benefit Guaranty Corporation.
Cash Budget. A planning tool that takes into account just cash inflows and cash outflows. Thus, depreciation isn't taken into account, but equipment purchases represent a cash outflow. Collections on accounts receivable boost cash; payments of accounts payable reduce it.
Cash Conversion Cycle. The time, usually in days, it takes to convert raw materials to cash after the manufactured goods have been sold and any accounts receivable collected. A shorter cycle means less working capital is tied up in inventory and accounts receivable which means debt can be reduced.
Cash Cow. A business that generates cash with regularity. Often it implies a business that generates outsized amounts of cash, frequently with little management intervention. Such businesses are often more mature, require little capital investment, have significant brand recognition, have a monopoly (or a near monopoly), and/or a loyal customer base.
Cash Flow. Generally, the net income from an investment or business plus depreciation and other noncash charges. For example, Madison Inc. has reported net income of $100,000, which includes a depreciation deduction of $23,000. Madison's cash flow is $123,000. The term can also refer to an analysis of the sources and uses of cash by a business. For example, Madison had $123,000 of cash inflow from operations but had an additional $50,000 of cash inflow from a loan and $55,000 of cash outflow for the purchase of a new machine.
Cash-On-Cash Return. Usually reserved for real estate income properties, it's the annual cash flow from the property divided by your cash investment. Sometimes called return on equity or equity dividend rate. It's a quick and dirty way to evaluate an investment.
Cash Ratio. The ratio of cash and marketable securities to current liabilities. It's similar to the Quick Ratio but does not include accounts receivable in the numerator. It's another measure of how much of the company's debts could be paid immediately out of assets on hand.
Cash Surrender Value. The amount a policyholder of a life insurance policy would receive if the policy were surrendered. With a whole life policy the cash surrender value increases over time.
Cat Bonds. Catastrophe bonds, linked to natural disasters in the U.S. and overseas.
Certificate of Compliance. A vendor's certification that the supplies or services delivered meet certain specified requirements.
Claims-Made Basis. Under this type of insurance policy the insurer is responsible only for claims filed during the period the policy is in force. See Claims-Occurrence Basis below.
Claims-Occurrence Basis. With this type of insurance policy the insurer is responsible for claims from events that occurred during the time the policy was in force. It makes no difference when the claim is filed.
Example--A customer slips on a wet floor in your store in March 1997. You're covered by Madison Insurance. The customer doesn't file a claim until a year later when you're covered under a new company, Chatham. Under a claims-occurrence basis policy you'd report the claim to Madison, the insurer at the time the accident occurred. Under a claims-made basis you'd report the claim to Chatham, the insurer at the time the claim is filed.
Closely Held Corporation. A corporation with five or fewer shareholders who own more than 50% in value of the stock at any one time during the year. Note, this is the IRS definition. In common usage the definition can be broader.
C.L.U.E. Report. The full term is Comprehensive Loss Underwriting Exchange Report. It contains any insurance claims on real property, the insurance company involved, the type of claim, whether or not it was related to a catastrophe, the cause of the loss and the amount paid for the previous five years. The report is often consulted by insurance companies before issuing a policy. The report can only be requested by the owner or an insurer. However, a buyer should ask the owner for a copy before going to contract.
Collateralization. To pledge mortgages, bonds, accounts receivable or other marketable properties as security for a loan.
Coinsurance Amount Limit. A requirement under burglary insurance that a minimum amount of insurance be maintained, based on the type and amount of merchandise.
Coinsurance Clause. In the case of a partial loss where the property is not insured for the indicated percentage of its cash value at the time of the loss, the recovery from the company is based on a percentage.
Example--Your insurance policy contains a coinsurance clause of 80%. Your building sustained $100,000 in damages. The actual cash value of the property at the time of the loss was $500,000, but you only carried $300,000 of insurance. Based on the coinsurance clause, you should have had coverage of $400,000 (80% of $500,000). You can't recover the full $100,000 in damages. Instead, your recovery is limited by the percentage of your coverage ($300,000/$400,000) times the loss, or $75,000. If you had coverage of $400,000, your insurance would have reimbursed you for the full $100,000 loss.
Commercial Blanket Bond. A bond that covers employee theft by one or more employees up to a fixed amount.
Commercial Paper. Short-term (generally 2 to 270 days) obligations (notes) issued by banks and corporations with high credit ratings. These notes are usually unsecured and usually issued at a discount.
Commercial Property Form. An all-risk type insurance policy covering business personal property against physical loss for retailers, wholesalers and certain other types of businesses.
Common Control. In tax parlance, the situation where a group of five or fewer persons own more than 50% of an undertaking and therefore have the ability (whether or not it is exercised) to direct operations.
Comparable Properties. One of the ways of appraising real estate (or other property) is to find recent selling prices of properties that are comparable to the one being appraised. If the properties are not identical, an appraiser can make adjustments.
Completion Bond. A guarantee provided by a bonding company to a lender or other party that the contractor will turn over the property to the owner free of any claims.
Compliance Strategy Program. An IRS organizational strategy comprised of three interdependent program areas--Legal Source Tax Crimes, Illegal Source Financial Crimes, and Narcotics-Related Financial Crimes.
Computer Investigative Specialist. An experienced IRS special agent with financial investigative skills and knowledge of accounting and legal principles. A CIS agent completes a standardized course study in computer evidence recovery and analysis.
Concealment. Intentionally withholding adverse facts that are known when you're obligated to reveal them.
Concessions. In real estate, free rent, allowances for alterations, etc., or similar payments or allowances from a landlord to induce a tenant to sign a lease.
Conditional. In insurance parlance, a contract requiring the insured to meet specified conditions to obtain payment for any losses.
Consequential Losses. Indirect losses from an event.
Construction Loan. A loan intended only to finance the construction of a property. Usually must be converted to a term loan after construction is complete.
Constructive Total Loss. A partial loss where the cost of repairing the damage is greater than the value of the property after restoration.
Contingent Business Interruption Insurance. An insurance policy that provides benefits if your earnings are reduced because of damages to another business on which yours is dependent.
Contingent Financing Clause. A clause in a purchase and sale agreement the specifies that the buyer must be able to secure financing on reasonable terms or he can back out of the purchase.
Contingent Payments. Payments where the amount and/or timing is dependent on other events, usually the income from the property.
Example--Fred buys all the stock of Madison Inc. for $250,000 plus 5% of Madison's sales in excess of $1,000,000 for two years from the date of the sale.
Contingent Interest. Income from a note that is at least partially based on the income from the property. This is common in financing commercial real estate. For example, Fred loans Madison $1 million at 8%. The terms also require the payment of 3% of the cash flow from the property in any year that the cash flow exceeds $750,000.
Contra Account. An asset account that normally has a credit balance. The contra account is used to offset a related account. The approach is used so that the regular asset account is shown at the original or undiminished value. For example, accounts receivable has a contra account usually called allowance for doubtful accounts. Fixed assets have a contra account called accumulated depreciation.
Contract Interest Rate. The stated, or nominal, interest rate in a contract.
Contributory Negligence. A defense argument that the plaintiff did not exercise sufficient care and that this contributed to his injury.
Convenience of Termination Clause. A contract clause that permits the party to terminate, at its own discretion.
Conventional Loan. A mortgage loan that is not backed by insurance from a government agency or other source.
Convertible Term. Term life insurance which is convertible into whole life without showing insurability.
Conversion Costs. The costs required to convert raw materials into finished product; including direct labor and overhead.
Cost Method. An appraisal method that values a property based on the cost to reproduce it today. That amount is usually adjusted for depreciation.
Example--Madison owns a 15-year old factory building. The cost to reproduce the building today would be $900,000. The appraiser adjusts that figure downward for wear and tear and, possibly, the cost to upgrade electric service, etc.
Covenants. Promises included in an agreement to perform or not to perform certain acts. For example, a loan may contain a covenant that the borrower's debt-to-equity ratio cannot exceed 2 to 1.
Credit Enhancements. Using third-party guarantees such as a cosigner, the pledging of assets, an insurance company bond, or a letter of credit to provide additional security for a loan.
Critical Status. Under the Pension Protection Act of 2006 (PPA), a multiemployer plan is considered to be in critical status if (1) it is less than 65% funded and is projected to have a funding deficiency within five years or to be unable to pay benefits within seven years; (2) it is projected to have a funding deficiency within four years or to be unable to pay benefits within five years, regardless of its funding percentage; or (3) it has liabilities for inactive participants that exceed its liabilities for active participants, its contributions are less than carrying costs, and a funding deficiency is projected within five years. Plans in critical status are subject to special requirements under the PPA to ensure that they improve their funding.
Cross-Purchase Plan. A plan by which each stockholder or partner in a closely held business agrees to purchase the interest of a departing stockholder or partner. Usually funded by life insurance on the lives of the other stockholders or partners. (Note, cross-purchase agreements can become unwieldy when more than four owners are involved.)
Current Yield. The yield of a bond or similar instrument, taking into account only the current interest and the price paid. Computed by dividing the annual interest by the purchase price.
Example--You purchase a bond for $900 (with a face amount of $1,000) that pays $40 twice a year. The current yield is 8.89% ($80 divided by $900).
The current yield is not a true indication of the return on your investment if the purchase price is not the same as the face amount. In the example above, your total return would be greater because at maturity you'll receive $100 more in principal than you paid for the bond. The return will be affected not only by the face amount to be paid at maturity, but also by the time to maturity.
Debt Instrument. A generic term representing any written promise to repay the debt.
Debt Service. The cash required to pay the interest and principal due (usually during one year) on outstanding debt.
Debt-To-Equity Ratio. Total liabilities divided by total shareholders' equity. This is a measure of the cushion available to creditors should the firm be forced to liquidate. The ratio is sometimes calculated by dividing total long-term debt by shareholders' equity.
Debt Service Coverage. The borrower's annual net operating income before debt service and taxes divided by the annual debt service. A measure of how safe the loan is to the lender.
Deed In Lieu Of Foreclosure. The delivery of an asset's title to the lender when the loan is in default. The approach may benefit both parties by avoiding the expenses associated with foreclosure and the stigma of foreclosure. CAUTION. For tax purposes, the transaction is the same as a sale.
Deep Discount Bond. A bond where the market price is less than 20% or so of its face value. Like a zero coupon bond, the market price of a deep discount bond will rise faster when interest rates fall and drop faster when interest rates rise than a bond that is selling close to its face value.
Deep In, Deep Out Of The Money. A call option whose exercise price is well below the market price of the underlying stock (deep in the money) or well above the market price (deep out of the money). Thus, the premium associated with buying a deep-in-the-money call option is high.
Default. The failure of a debtor to comply with a provision of a bond indenture or loan agreement (commonly known as a technical default) or to make timely payment of interest or principal when due.
Defeasance. In corporate finance it is generally the discharge of old, low-rate debt without repayment prior to maturity. The corporation replaces it with newly issued securities with a lower face value buy paying higher interest or having a higher market value. The technique can result in tax and balance sheet advantages.
Deferred Charge. An expenditure carried as an asset until the amount represents a true expense for the period. For example, if a one-year insurance premium is paid three months before the end of the fiscal year, three months of the premium would be an expense in the year paid, nine months would be an expense of the following year. Thus, 9/12 of the premium would be a deferred charge. In this case it would be represented by an account called prepaid insurance. Deferred income is the opposite situation. For example, six months rent received in advance. Any amount not properly credited to the current period would be represent a liability.
Deferred Interest Bond. A bond where interest payments are not made currently, but at a later date. Similar to a zero coupon bond which pays 'interest' and principal at maturity. The interest, in effect, is compounded and paid at maturity. Market prices for such bonds are much more volatile than bonds which pay interest currently.
Defined Benefit Plan. A defined benefit (DB) plan is an employer-sponsored retirement plan in which employee benefits are based on factors such as length of service and average salary. Benefits in a DB plan are prefunded and pension assets are held in a trust fund under the control of the employer. By law, defined benefit plans must offer benefits in the form of an annuity, although they also may offer optional forms of payment, such as a lump-sum distribution. In a DB plan, the employer bears the investment risk. If the pension trust is not adequately funded to pay the benefits promised, the employer may be required to contribute more money to the plan. Defined benefit plans are insured by the Pension Benefit Guaranty Corporation.
Defined Contribution Plan. A defined contribution (DC) plan is an employer-sponsored retirement plan in which the employer contributes a specific dollar amount or percentage of pay into a retirement account for the employee. In some DC plans, such as Sec. 401(k) plans, the employee also defers some of his or her salary into the account. In participant-directed plans, the employee controls how the money in the retirement account is invested. In a DC plan, the employee bears the investment risk. The benefit under the plan is whatever amount is held in the retirement account, which depends on the amounts contributed and investment gains and losses. Defined contribution plans are not insured by the Pension Benefit Guaranty Corporation.
Demand Deposit. The technical name for a checking account or any other type of account where the funds can be withdrawn without prior notice.
Demand Loan. A loan with no set maturity date. The loan is payable whenever the lender chooses to call it.
Depletion. The exhaustion of a natural resource such as coal, oil, minerals, gravel, etc. A person that sells the natural resource takes a deduction for accounting purposes as the item is sold. The amount of the deduction is based on the estimated amount of natural resource owned. For tax purposes percentage depletion can be used, the percentage varies with the natural resource.
Deposit in Transit. Checks or other funds that have been recorded on the company's books as having been received but are not yet posted by the bank to the account. A deposit in transit is a reconciling item when the bank statement is reviewed.
Depositors Forgery Insurance. Insurance coverage for loss as a result of forgery on checks, notes, or other financial instruments.
Depreciation. A method of recovering your purchase price or other basis in an asset over its life rather than deducting the full amount immediately. An expense for book purposes or a deduction for tax purposes. Depreciation is often different for book and tax purposes. See Accelerated Depreciation above.
Depreciation Recapture. When tangible personal property is sold, the tax gain is based on the difference between the asset's adjusted basis and the selling price. Any gain up to the amount of depreciation taken is deemed depreciation recapture and taxed as ordinary income.
Example--Madison bought a machine for $10,000. Five years later its adjusted basis is $4,000. Madison sells the asset for $9,000. The gain is $5,000, all of which is depreciation recapture. If Madison sold the asset for $11,000, it would have $6,000 in depreciation recapture (ordinary income) and $1,000 of capital gain.
CAUTION. The rules for real property are more complicated.
Devise. The gifting of real property by means of a will. A bequest is the gifting of personal property through a will. (In modern usage, devise is often used to describe the gifting of personal as well as real property.)
Devisee. A person who inherits real property by mean of a will.
Direct Charge-Off Method. Accounts receivable on the balance sheet are based on the what's owed the company. To reflect the amount that the company believes will be collectible, management generally sets up a reserve for doubtful accounts. The reserve is an estimate based on experience. Under the direct charge-off method, certain accounts are written off because management has reason to believe they will never be collected.
Direct Costs. Costs directly related to conversion of raw materials into product. Includes raw materials, direct labor and variable overhead.
Direct Costing. Also know as variable costing, a method of calculating costs that involves only raw materials, direct labor and variable overhead.
Direct Overhead. Costs directly associated with the manufacture of goods. That could include factory lighting, rent, insurance. Indirect overhead could include office expenses, R&D, lighting, etc.
Direct Placement. Also known as a private placement, the sale of securities directly to one or more professional investors or institutions, frequently insurance companies. The sale of securities in this fashion avoids many of the fees typically associated with public offerings.
Disaffirm. To disclaim responsibility for an obligation or contract.
Disappearing Deductible. An insurance policy where losses below a certain amount are excluded. Those above a certain amount are paid in full and those in between are paid a multiple of the loss.
Discharge in Bankruptcy. The satisfaction of a person or company's obligations as a result of the order of a bankruptcy court. Not all debts may be dischargeable in bankruptcy.
Discharge of Lien. The removal of a legal claim on property following the payment or other satisfaction of the lien.
Discontinued Investigation. For IRS purposes, a subject investigation that resulted in a determination that there was no prosecution potential.
Discount. This term can have a number of meanings, depending on the context. When used in connection with a loan, it's where the bank deducts its interest payment before giving the loan proceeds to the borrower. For example, where $100 is borrowed at 10% for one year, the borrower receives only $90. For bonds, it's the difference between the current market price and the face amount of the bond.
Discounted Cash Flow. The application of a factor, based on the cost of the firm's capital or prevailing interest rates (with a possible adjustment for risk), to the cash inflows and outflows from a project or investment. Also called net present value analysis.
Discount Rate. 1. The rate used to compute discounted cash flows or the present value of an investment. 2. The interest rate that the Federal Reserve charges member banks for loans.
Discount Yield. The yield on a security sold at a discount. U.S. treasury bills are sold at a discount. The face amount is returned to the investor at maturity. The annual yield is computed by dividing the discount by the face amount, then multiplying by the number of days in the year (360) and dividing by the number of days to maturity. For example, a note purchased for $950 that returns $1,000 at maturity 11 months later. The note pays no interest; instead, your entire return is determined by the amount of the discount ($50 in this example). Banker's acceptances, commercial paper, and other short-term instruments frequently use this approach to compensate the buyer.
Disintermediation. When individuals (or other entities) take money out of savings accounts and put the funds in money market accounts.
Distress Termination. The sponsor of a defined benefit plan that does not have enough money to pay the full benefits it owes to participants and beneficiaries may terminate the plan if the sponsor is financially distressed and is unable to fund the plan. The PBGC will then take over the plan as trustee and use its own assets and any remaining assets in the plan to pay pension benefits to current and future retirees within the legal limits.
Dividend Exclusion. Regular (not S) corporations can exclude from income 70% of dividends received. If the corporation owns 20% or more of the stock of the other corporation, it can exclude 80%. A 100% exclusion is provided for 80% plus owned corporations.
Dividend Payout Ratio. The ratio of the annual dividend to the earnings of a company. Stable, mature companies (such as utilities) typically have a high payout ratio.
Due Diligence. The thorough investigation of a potential acquisition candidate, real estate investment, etc. Often used to refer to the investigation of a company for an initial public offering.
Due-On-Sale. A clause in a mortgage that stipulates any balance remaining on a mortgage is due when the underlying property is sold.
Earnings Form. Business interruption insurance where the payment is a specified amount only when the loss is caused by an insured peril.
Electronic Crimes Program. An IRS program established to provide guidance and resources in securing, documentation processing, maintaining and presenting digital evidence in support of IRS criminal investigations.
Electronic Fraud Detection System. The primary computer system used by the IRS that enhances its ability to identify and stop fraudulent filings.
Embezzlement. Theft or use of money or property by an individual in whose care the money or property had been entrusted.
Endangered Status. Under the Pension Protection Act, a multiemployer plan is considered to be endangered if it is less than 80% funded or if the plan is projected to have a funding deficiency within seven years. A plan that is less than 80% funded and is projected to have a funding deficiency within seven years is considered to be seriously endangered.
Endorsement. A written agreement modifying a standard insurance policy to meet certain conditions or to complete a policy.
Entity. A partnership, corporation, LLC, S corporation, trust, estate, or joint venture of any kind recognized for tax purposes.
Equity Kicker. See Kicker, below.
Escalation. 1. Additional rent payments owed by a tenant based on the increase in the costs of operating the building. See Base, above. 2. A clause in a purchase contract providing for upward adjustment of the contract price if specified contingencies occur.
Excess Liability Insurance. A policy that covers losses that exceed those covered under another policy. For example, your regular policy covers losses up to $300,000. You purchase an excess liability policy that covers losses from $300,000 to $2,000,000. In effect, an excess liability policy is one with a very high deductible. Also known as an umbrella policy.
Experience Rating System. Insurance premiums in such a system are based on the insured's past experience.
Extra-Expense Insurance. A policy that pays for any extraordinary expenses incurred to keep a business in operation after a loss caused by an insured peril.
Extra Risk. An insured that does not fall within the standard risk range. Insurance can only be obtained for a higher than normal premium or with less coverage.
Fair Market Value. The price at which an item can be sold by a willing seller to a willing buyer, neither of which are under any pressure to buy or sell. Furthermore, it's assumed that both parties are dealing rationally, have knowledge of relevant facts, and are not related.
Fee Simple. Type of ownership of real property where ownership is unconditional. The most common type of ownership. A fee simple owner can sell the property or leave it to his heirs. Fidelity Bond. A bond which pays an employer up to an amount stated in the bond for losses caused by dishonesty or infidelity on the part of an employee.
Fiduciary Bond. A bond on behalf of a person in a position of trust that guarantees the person will perform his or her statutory duties and provide a proper accounting.
Fiduciary. A person to whom property is entrusted to hold, control, or manage for another. The fiduciary of a trust is the person who is legally responsible for managing the assets of the trust in a competent manner.
Field Special Agent. An IRS special agent in one of the Division's 29 field offices.
Fixed Costs. Costs that do not vary with the number of units produced. For example, depreciation. In the long run all costs are variable and some costs have both a fixed and variable component.
Fixed Price Contract. A contract which provides for a firm price.
Flat Lease. A lease where the payment doesn't change over the term of the lease.
Flow-Through Entity. An entity where the income, losses, and certain other items of income and deduction are passed through to the owners. For example, partnerships, trusts, and S corporations.
Forward Supply Contract. A contract for future supply of definite quantities of goods or services over a fixed period.
Free and Clear. In real estate the term is used to indicate that the investment analysis has ignored any debt on the property. (Debt can distort the analysis by increasing the return if the interest rate is lower than the rate of return on property and vice versa if the interest rate is higher.)
Free Cash Flow. Free cash flow is the cash flow available to equity and debt holders, or, in other terms, the normal cash flow of the organization less necessary capital expenditures. Normal cash flow is a less conservative measure of the organization's cash flow because it doesn't take into account the capital expenditures necessary to maintain the health of the business.
Front Foot. A unit of measurement based on the number of feet along a street. Generally applied when all properties in an certain area are the same depth. Also an important measure for retail space because tenants want the maximum visibility.
Front Money. The initial investment in a development, project, business, etc. Usually the cash necessary to get the project started.
Full Absorption Costing. Method of computing costs that starts with Direct Costs (materials, direct labor, variable overhead) but adds non-variable overhead.
Full Costs. All costs including Direct Costs and general and administrative expenses as well as selling expenses.
Future Interest. A right to property, other assets, an estate, that does not take effect until some years in the future. Fred will inherit a present interest in the income from the property, but his son will have the future interest interest when he receives the property on Fred's death.
Garage Liability Insurance. A policy for businesses that work with autos. The policies provide coverage for operations in progress and completed operations as well as the premises.
General Crime Exclusions. Refers to perils in an insurance policy that are excluded because they are usually covered under another type of policy.
General Property Form. A standard form for insuring commercial buildings and their contents.
Graduated Payment Mortgage. A loan where the initial payments are lower than the amount needed to amortize the loan. Debt service grows each year till it reaches a set amount. Used to increase the affordability of a home or real estate investment.
Gross Income. Total sales less cost of goods sold or cost of operations. Contracts, leases, etc. may use a broader definition, income before cost of goods sold.
Gross Lease. As opposed to a net lease, a gross lease is one where the tenant is responsible for either none of the increase in operating expenses of the building, or only the amount above a stop. If a base or stop is involved, the lease is sometimes known as a modified gross lease.
Gross Leasable Area. The total square footage of a building. It's generally measured from the outside walls.
Gross Margin. See Gross Income, above.
Gross Profit. See Gross Income, above.
Gross Profit Method. An approach to estimating inventory at an interim period. The approach is not allowed for year-end purposes or for tax reporting purposes. A physical inventory must be made.
Gross Revenue (also known as Gross Sales or Gross Receipts). Includes all sales or receipts based on stated invoice amounts and unreduced by customer discounts, allowances, or returns. Net sales are gross sales less discounts, allowances, etc.
Ground Rent. Where the building owner rents the land beneath the building from the land owner. Ground rents generally are for an extended period of time, 99 years is not unusual. There are often special tax and accounting implications.
Hard Costs. The direct costs of acquiring a business (such as the purchase price), constructing a building (brick and mortar), etc., as opposed to legal, accounting, consulting, financing, costs, which are called soft costs.
Hedged Position. A hedged position occurs if you own a second asset that should move in the opposite way the first asset would react to changes in the market. For example, you own a stock and a put and/or a call on the stock.
Holdback. The portion of a loan not paid out to the borrower until a certain requirement is completed. For example, a lender may release 10% of the total amount of a loan on completion of the foundation, an additional 15% when rough plumbing is in, etc.
Hold Harmless. An agreement where one party agrees to release another party from any legal liability that may occur as the result of a specific event.
Illegal Source Financial Crimes. Crimes involving illegally earned income, such as money laundering.
Immediate Notice. In insurance parlance, a clause requiring the insured to provide notice to the insurer (or a representative) as soon as reasonably possible following a loss.
Implied Warranty. A warranty that is assumed or assumed to be part of a contract despite the fact that it is not expressly stated.
Imprest Funds. Funds set aside as a cash reserve for expenditures expressly designated. Also, a petty cash fund.
In-the-money. For options, if exercising the option will result in a gain, the option is in-the-money. For a call option, it is in-the-money if the market price of the stock is greater than the exercise price. A put option is in-the-money if the market price of the stock is less than the exercise price.
Indirect Costs. Costs that can't be directly related to the cost objective or a product.
Industrial Property Form. An all-risk or specific peril type of insurance for manufacturers or businesses engaged in processing.
Inflation Endorsement. A clause in a homeowners policy where the coverage is automatically increased periodically to account for changes in a price index.
Insured Bonds. Generally, municipal bonds that are covered by insurance against default (loss of interest or principal). The insurance premium is paid by the issuer. Insured bonds generally have a lower yield because of this protection.
Intangible Asset. An asset that is a right and nonphysical, as opposed to equipment, buildings, etc which are tangible assets. Examples include copyrights, patents, trademarks, goodwill, capitalized advertising costs, computer software, leases, licenses, etc.
Intangible Costs. Expenditures incurred to create an intangible asset. For example, legal fees to negotiate a lease, the cost to acquire a license, etc.
Integrated Operations. Two or more business operations which are conducted as though they were one single economic unit.
Interest-Only Loan. A loan where the borrower pays only interest and not principal during the course of the loan. Some loans have an interest-only period, then require payment of interest and principal. The total amount borrowed is payable as a balloon payment at maturity. Sometimes referred to as a bullet loan.
Interim Financing. Short-term financing that's conditional upon securing intermediate or long-term financing. Also known as a bridge loan.
Interim Statement. A financial report that covers only a part of the company's year. Often used to refer to a quarterly financial statement.
Involuntary Conversion. The unexpected and sudden destruction of an asset, e.g., fire, theft, hurricane, etc. The term can also mean a condemnation such as the taking of property by a state or local government.
Irrevocable Trust. A trust that cannot be altered or dissolved by the party who created it. Property put into an irrevocable trust by the grantor or settlor cannot be retrieved. Property placed in an irrevocaable trust is no longer considered owned by the grantor and is not included in the grantor's estate. (Contrast with a revocable trust.)
Jobber. A party who buys goods and resells them, acting as a middleman between a distributor and a retailer.
Job Cost Sheet. A list of materials, labor, and other costs along with budgeted and/or actual amounts for the manufacture of a product or to provide a service.
Joint-and-Last Survivor Annuity. A type of annuity where income is payable during the lifetimes of two or more annuitants and continues until the death of the last survivor.
Joint-and-Last-Survivorship Option. When paying out the proceeds of an insurance policy, payments continue until the death of the last survivor of two persons.
Junior Mortgage. A lien that is below that of another mortgage. The holder of a junior mortgage can usually be satisfied only after a more senior lender is paid off. Thus, the interest rate on a junior mortgage is usually higher.
K-1. The information form from a partnership, S corporation, trust or estate, which provides the flow-through income and losses to be reported on an investor's individual return.
Kicker. An additional benefit a lender or investor receives as an inducement to make the loan or investment. For example, a lender may receive an Equity Kicker allowing him to receive a share of the income from the property if it exceeds a specified amount or giving the lender warrants to purchase shares of stock in the investment at a price below market value.
Kiting. Generally, it's the action of drawing checks on one account while depositing checks in another account and depending on the float to avoid overdrafts. A common form of embezzlement.
Latent Defect. A defect which could not be discovered by ordinary and reasonable inspection.
Leasehold Interest. The right to the use of real property created by a lease. If the rent payable on the lease is below the current market, the lease has a number of years to run and is for a very desirable property, etc. the lease can be a valuable asset, particularly if the space can be subleased.
Legal Source Tax Crimes. Crimes involving legal industries and occupations and legally earned income.
Lessee. A party who rents property from another under a lease.
Lessor. A party who owns property and leases it to a tenant.
Level Premium Plan. Premiums due on an insurance policy that remain level throughout the term, regardless of any dividends that may be paid.
Leverage. 1. Financial leverage is the act of increasing the return on an investment by borrowing some of the funds at an interest rate less than your return on the project. 2. Operating leverage has the same objective, but you increase your return by increasing cheaper fixed costs. Leverage can be positive or negative. If the return on an investment is greater than the cost of borrowing, leverage is positive. If the return is less, leverage is negative.
Levered Free Cash Flow. Cash flow after capital expenditures and changes in net working capital and mandatory repayments of debt. Unlevered free cash flow does not include interest and mandatory principal repayments. Lien. A type of encumbrance that makes designated property security for a debt or for an obligation. For example, a mortgage or a tax judgment.
Life Income Period-Certain Annuity. The annuitant is guaranteed payments for the rest of his life, but should he die before a certain time, there is a payout based on a minimum number of payments.
Like-Kind Exchange. A tax device for deferring gain on the transfer of a property by exchanging it for similar property. For example, you exchange investment property in New Hampshire for investment property in Colorado. If you receive no cash or unlike property, there is no tax on any gain.
Limited Liability Company. A entity created under state law that is taxed like a partnership (i.e., income and losses are passed through to the partners), but where the liability of the owners is limited to their investment in the company. That is, they can't be held personally liable for the debts of the company.
Limit of Liability. When an insured is covered by more than one policy for a loss, each insurer pays according to a predetermined formula.
Limited Partner. An investor in a partnership whose personal liability is limited. Such investors are generally considered passive for income tax purposes.
Limited-Pay Life. Premiums on a life insurance policy that are payable for a stated period or until the insured reaches a certain age.
Liquidated Damages. A specific sum of money, set as part of a contract, to be paid by one party to the other if the first should default on the contract.
Liquidity Premium. The part of an interest rate or other return that is intended to cover the fact that the investment is illiquid.
Liquidity Risk. The risk that a party will not be able to have enough cash to meet its obligations as they come due.
Loan Commitment. A agreement by a lender to make a loan in the future if all the conditions in the agreement are satisfied.
Loan-to-Value Ratio. The percentage a lending institution will loan to the appraised value of a property. For example, if the property is appraised for $100,000 and a bank will loan only $70,000, the loan-to-value ratio is 70%.
Long Position. In stocks, bonds, etc. it means you own the stock, bond, option, etc. Often just referred to as simply long.
Long Bond. A bond that matures in more than 10 years.
Lost Instrument Bond. A bond that guarantees that the owner of a lost stock, bond, etc. certificate or other financial instrument will hold the firm harmless against loss if it will issue a replacement certificate.
Lowest Responsible Bidder. The bidder who is awarded a contract because his bid is lower than any of the other bidders whose reputation, past performance, and business and financial capabilities are acceptable.
Lump Sum. A price for a group of goods or services where there is no breakdown of price for the various items.
Manufacturer's Output Policy. An insurance policy that covers the loss of property owned by a manufacturer but located off the premises.
Manufacturing Costs. All costs necessary to manufacture the product.
Market-Value Clause. A clause in an insurance policy that allows for the settlement of a claim based on the market value rather than the actual cash value.
Material Participation. Regular, substantial, and continuous involvement in a business on the part of either the taxpayer and/or spouse. Allows losses from the trade or businesse to be deducted against ordinary income. Applies to S corporations, partnerships and sole proprietorships.
Maturity Date. The date on which a loan, mortgage, bond, etc. is due and any outstanding principal must be paid.
Mechanic's Lien. A claim in favor of mechanics, contractors, laborers or material suppliers against a building or other structure. The lien can only be filed by persons who worked on the building or supplied materials.
Member. The owners of corporations are shareholders; the owners of partnerships are partners. In an LLC (limited liability company) the owners are known as members. Modified Adjusted Gross Income. Your AGI (adjusted gross income) computed without considering any passive activity loss, IRA or SEP plans, taxable social security or the deduction for one-half of the self-employment tax.
Mortgagee. A lender who loans money to a mortgagor. The loan is usually secured by real estate or other property.
Multiemployer Plan. A multiemployer plan is a collectively bargained plan maintained by more than one employer, usually within the same or related industries, and a labor union. These plans also are sometimes referred to as "Taft-Hartley plans," after the Taft-Hartley Act of 1947 (P.L. 80-101).
Multiple Line Insurance. An insurance policy that combines both liability and property damage coverage and insures against a range of perils.
Copyright 1999-2013 by A/N Group, Inc. This publication is designed to provide accurate and authoritative information in regard to the subject matter covered. It is distributed with the understanding that the publisher is not engaged in rendering legal, accounting, or other professional service. If legal advice or other expert assistance is required, the services of a competent professional should be sought. The information is not necessarily a complete summary of all materials on the subject.--ISSN 1089-1536
--Last Update 07/15/13